The Stern Files (sixth edition)

As a review of this edition of the Stern Files demonstrates, Stern has led to an onslaught of requests to withdraw the reference. As we previously noted, the United States District Court for the Southern District of New York attempted to slow the flow of motions to withdraw the reference by issuing an Amended Standing Order of Reference that essentially told parties to stop filing withdrawal motions and, instead, to let bankruptcy courts issue final decisions, at which point the district court could decide, if necessary, to treat such decisions as reports and recommendations. The District of Delaware and the Southern and Middle Districts of Florida have followed with substantially similar amended standing orders. Keep reading for a sampling of what courts are saying about motions to withdraw the reference and a host of other Stern-related issues.

Background: Debtor commenced an action to recover a constructive fraudulent conveyance. Defendants filed a motion to withdraw the reference based on Stern.Stern Impact: The district court stated that, following Stern, any decision on a motion to withdraw the reference should consider, in addition to the Second Circuit’s “Orion factors,” whether (i) the claims at issue involve a public or a private right; (ii) the claims will be resolved in ruling on a creditor’s claim (if any); and (iii) the parties consent to final adjudication by a non-Article III tribunal because these factors determine whether the bankruptcy court can adjudicate a core claim to final judgment. Applying these expanded Orion factors to the facts of the case, the court held that although the fraudulent transfer claim (i) involved a private right; (ii) would not necessarily resolve any defendants’ claims; and (iii) the parties had not consented to entry of a final judgment by the bankruptcy court, withdrawal of the reference was not warranted because the bankruptcy court still had the authority to hear the claims and issue proposed findings of fact and conclusions of law. The court noted that this process was consistent with Stern because it would not cause any “meaningful change” in the “division of labor” among the bankruptcy and district courts.

Background: Chapter 7 trustee filed a series of counterclaims, including state law claims for breach of contract and breach of fiduciary duty, in response to proofs of claim filed by a number of debtors’ officers and directors. After completion of the trial, the defendants moved to withdraw the reference arguing that the bankruptcy court did not have authority to enter judgment on account of the trustee’s counterclaims.Stern Impact: Relying on Seventh Circuit’s Ortiz decision, the court held that even though the claims were core, Stern held that bankruptcy courts do not have the authority to enter a final judgment regarding such claims. Although noting that some claims may be resolved in the claims resolution process, the district court held that because not all such claims would be resolved in the claims resolution process, such overlap did not warrant overriding Stern. Thus, notwithstanding the completion of the trial before the bankruptcy court, the district court withdrew the reference because such withdrawal could, “even at this late stage,” eliminate delay and further cost for the parties, who were anxious for a judgment.

Background: Creditor brought an adversary proceeding to determine the extent, validity, and priority of liens on certain property of the debtor. Debtors asserted various counterclaims, including a state law counterclaim for recoupment. The bankruptcy court issued a final judgment holding that the creditor held a valid lien. The debtor appealed alleging, among other things, that the bankruptcy court did not have final authority under Stern to issue a final judgment on the validity of liens.Stern Impact: The district court concluded that all claims would necessarily be addressed in resolving the underlying claims against the estate, so the bankruptcy court had authority to enter a final judgment on all counts pursuant to Stern. Even though the required standard of review was whether the lower court was “clearly erroneous” as to all facts, given the uncertainty regarding Stern, the court undertook a de novo review of the entire record and noted that, to the extent that the bankruptcy court exceeded its authority in entering a final judgment, the court’s affirming opinion would constitute a final judgment.

Background: Plaintiffs initiated an adversary proceeding against debtor, alleging that certain claims were nondischargeable. In response, the debtor asserted counterclaims to avoid fraudulent transfers, for breach of an implied covenant of good faith and fair dealing, for a declaratory judgment relating to a contractual dispute, and an objection to the plaintiffs’ claims against the debtor. The court then requested that the parties brief the issues of whether the claims were core or non-core, and whether the court had the authority to enter a final judgment in the action.Stern Impact: The court first held that all claims were core because they concerned dischargeability of debts and claims against the estate. The court then held that it could enter a final judgment because Stern did not prohibit bankruptcy courts from entering final judgments resolving issues under the Bankruptcy Code where such issues would be completely resolved in the bankruptcy process or that flow from a federal statutory scheme. The court further noted that the debtor’s claims for costs and damages in connection with the plaintiffs’ alleged breach were “intricately melded with determining whether plaintiffs’ alleged breach of an implied duty of good faith should reduce or eliminate plaintiffs’ claims in the bankruptcy case” and that such claims were accordingly tied to the claim allowance process. Moreover, the court noted that the parties had expressly consented to the court’s entry of a final judgment, so even if the bankruptcy court did not have specific authority to enter a final judgment, it could still do so.

Background: Creditor commenced a fraudulent transfer action against debtor prior to the debtor’s involuntary bankruptcy filing. After the debtor’s case was initiated, he removed the action to the bankruptcy court. The Chapter 7 Trustee then continued the fraudulent transfer action against the debtor and his wife.Stern Impact: The court, in awarding partial judgment in favor of the trustee, addressed the question of whether it had the constitutional authority, in light of Stern, to enter a final judgment in the fraudulent transfer action and concluded that it did have such authority because Stern was a narrow decision and did not upset the bankruptcy court’s power to enter a final decision. Furthermore, the court noted that the debtor had arguably consented to the bankruptcy court’s jurisdiction by removing the proceeding to the bankruptcy court. Finally, the court stated that because Stern was about a court’s final adjudicative authority and not its subject matter jurisdiction, the court (at least) had the power to submit proposed findings of fact and conclusions of law. Thus, if the district court disagreed with its issuance of a final judgment, the district could construe the judgment as a report and recommendation.

Background: The Fifth Circuit, hearing a case on appeal from a magistrate judge, asked the parties for briefing on whether Stern had any effect on the powers of magistrate judges to hear and determine state law counterclaims with the parties’ consent.Stern Impact: The Fifth Circuit noted that by it’s own terms, Stern should be read narrowly and related only to “certain counterclaims in bankruptcy.” Thus, citing both existing precedent and the Federal Magistrates Act, the court held that magistrate judges are authorized to issue final judgments on state law counterclaims with the consent of the parties. The Fifth Circuit noted that it would not upset existing circuit precedent to that effect absent a decision from the Supreme Court that “unequivocally” overruled the precedent, which Stern did not do.

Background: Defendants filed a motion to withdraw the reference in an adversary proceeding in light of the fact that they had requested a jury trial.Stern Impact: The court noted that the defendants’ right to a jury trial was not disputed, and the only issue before the court was whether Article III prohibits the Bankruptcy Court, even with consent of the parties, from conducting a jury trial and entering a final judgment following Stern. The district court denied the withdrawal request in light of the fact that the parties had consented to a jury trial in bankruptcy court stating that “although the Supreme Court held that Congress may not vest in a non-Article III court the power to adjudicate, render final judgments, and issue binding orders on certain state law claims, the Supreme Court did not hold that parties cannot themselves consent to give a non-Article III judge that power. It has long been established that there is no absolute individual right to have a claim adjudicated by an Article III court, and as such, the right is subject to waiver.”

Background: Trustee commenced adversary proceeding to recover fraudulent transfers made by operator of a Ponzi scheme, followed by a motion for a preliminary injunction enjoining the defendants from transferring the cash that was the subject of the proceeding. Defendants moved to withdraw the reference arguing that (i) the bankruptcy court did not have the authority to enter a final judgment or to enter a report and recommendation and (ii) they had demanded a jury trial, which necessitated a withdrawal of the reference.Stern Impact: The court determined that Stern did not deprive bankruptcy courts of all authority over fraudulent transfers and that they could still issue reports and recommendations. Thus, the court concluded that withdrawal was neither necessary nor appropriate at the current stage of the litigation and that “[l]eaving adjudication of this case with the Bankruptcy Court means that the discovery issues, settlement conferences, and motion practice will be supervised in this adversary proceeding most efficiently by the same court that is currently supervising the other adversary proceedings filed in connection with the bankruptcy estate.” The court noted that the reference could be withdrawn if and when the matter was ready for trial.

Background: Chapter 7 Trustee commenced five adversary proceedings against members of the family that owned and operated the debtor, asserting claims for fraudulent transfers and preferential payments to the defendants (under federal and state law), as well as claims for turnover of estate property under section 542, and for violation of state “unfair trade practice” law. Several defendants had filed proofs of claim in the bankruptcy case.Stern Impact: The court held that, after Stern, it could only enter a final judgment in those actions that (i) stem from the bankruptcy itself and/or (ii) would necessarily be resolved in the claims allowance process. Examining each of the claims against each defendant in that light, the court concluded with regard to those defendants that had filed proofs of claim that it could enter a final judgment (i) as to the fraudulent transfer and preference claims against such defendants because their claims sufficed to constitute consent to final judgment; (ii) on the turnover claims against such defendants because turnover actions are core bankruptcy matters stemming from the bankruptcy itself via section 542 of the Bankruptcy Code; and (iii) on the trustee’s claim for equitable subordination because such claims arise from section 510 of the Bankruptcy Code. On the other claims against those defendants who had filed proofs of claim (alter ego, unjust enrichment, state trade practices, breach of fiduciary duty, accountings), the court issued proposed findings of fact and conclusions of law because the issues neither stemmed from the bankruptcy nor would be resolved in ruling on their claims.

With regard to the defendants who had not filed proofs of claim, the court took a broad view of Stern’s reading of Granfinanciera, and held that fraudulent transfer actions do not stem from the bankruptcy. The court recognized, however, that it could still issue proposed findings of fact and conclusions of law because, although Stern requires a district court to render a final decision on such actions, it does not require that district courts actually try fraudulent conveyance actions.

Background: Litigation Trust brought claims against individuals and corporate entities involved in the Lyondell-Basell merger for fraudulent transfers, preferences, breach of fiduciary duty, and other state law claims. The defendants filed a motion to withdraw the reference with regard to the fraudulent transfer claims, as the parties had agreed that the bankruptcy court had final adjudicative authority over the equitable subordination claim, and did not have such authority over the state common law claims.Stern Imapct: The court held that, after Stern, bankruptcy courts lack final adjudicative authority where the parties did not unanimously consent to final adjudication by a non-Article III court and either (i) the claim at issue did not fall within the public rights exception; or (ii) the claim would not necessarily be resolved in ruling on a creditor’s proof of claim. Applying this test, the court held that, pursuant to Stern’s interpretation of Granfinanciera, fraudulent conveyance action are “quintessentially suits at common law” and thus do not involve public rights. Furthermore, the court opined that, contrary to what some other courts have held post-Stern, the Granfinanciera holding is not limited to the Seventh Amendment context, but rather, because such actions do not flow from a federal statutory scheme that there is “no room for a fraudulent conveyance claim that is somehow a matter of private right in a Seventh Amendment context, but a matter of public right in an Article III context.” Fraudulent conveyance actions must either be matters of “public or private right; they cannot be both.”

Nonetheless, the court, applying the Orion factors, found withdrawal of the reference inappropriate in light of the bankruptcy court’s knowledge of and familiarity with the case. It, therefore, denied the withdrawal motion and left the matter with the bankruptcy court to enter proposed findings of fact and conclusions of law.

Background: Chapter 7 trustee filed an adversary proceeding seeking to avoid certain transfers, and the bankruptcy court granted such avoidance. During the pendency of the appeal, Stern was decided, and the debtor argued that, as a result of Stern, the bankruptcy court had lacked constitutional authority to enter a final judgment avoiding those transfers.Stern Impact: The district court rejected the debtor’s appeal noting that Stern was narrow and that although some courts had interpreted Stern’s discussion of Granfinaceria to indicate that bankruptcy courts don’t have core jurisdiction over fraudulent transfers, such decisions ignored the fact that Granfinaceria has been on the books for 20 years and nobody has said that it prohibits the bankruptcy courts from making final rulings on fraudulent transfers. Stern did not change the underlying ruling in Granfinanceria such that it could now be read as standing for the proposition that bankruptcy courts’ do not have authority to enter final judgments in fraudulent transfer and avoidance actions. The court noted that Granfinanceria itself was clear that it was not even discussing the issue of the constitutional authority of bankruptcy courts to enter final judgments.

Background: In debtor’s chapter 11 case, two nondebtors (“ARDI” and “Buncher”) entered into a consent order regarding title to a barge facility. The consent order also provided that the bankruptcy court would retain jurisdiction to enforce the consent order or to resolve any dispute thereunder. The bankruptcy case was then dismissed. Two years later, ARDI sued Buncher in state court, alleging conversion of the barge facility. The complaint was then removed to the bankruptcy court. ARDI argued that the bankruptcy court lacked the ability to enter a final judgment regarding both its claims and Buncher’s counterclaims.Stern Impact: The court rejected ARDI’s argument because “[f]irst, Stern does not apply in the instant matter as resolution of the current proceeding is entirely dependent on this Court’s interpretation and enforcement of its own Consent Order, and is not dependent upon the adjudication of an independent state-law cause of action. Second, even in the event that Stern was found to apply, both parties have effectively consented to the entry of a final judgment by this Court.” The court noted that even though the claims were state common law claims, they had “stemmed” from the bankruptcy and hinged on the bankruptcy court’s interpretation of its consent order. Finally, the court noted that the parties’ consent provided authority for the bankruptcy court to enter a final judgment. In the court’s words, “[w]here consent is present, the Supreme Court has recognized the ability of Article I judges to finally adjudicate civil matters absent de novo review by any Article III court … [and] [n]othing in Stern abrogates this precept.”

Background: Debtor brought adversary proceeding for avoidance of fraudulent transfers, turnover, and constructive trust. The court invited the parties to brief their positions on Stern’s impact on the issues before the court, including whether the parties would consent to the court’s ruling on any matters that may require such consent following Stern.Stern Impact: The court held that the fraudulent transfer and turnover claims were core claims arising under the Bankruptcy Code and that the constructive trust claim was a related non-core matter. The defendant asserted in its filings that it did not consent to the court deciding on the non-core constructive trust, but because the defendant had previously consented and the issue of non-core matters was not addressed in Stern, the bankruptcy court would still rule on that matter based on the earlier consent under section 157(c)(2). Turning to the core claims, the court noted that the defendant had not consented to those and that following Stern “it is now possible to have a proceeding that is defined by statute as core but as to which a bankruptcy judge may not, at least without the parties’ consent, enter a final judgment.” The court went on to note that a even if a bankruptcy court is unable to enter a final judgment on a core proceeding under Stern, that it “may nonetheless hear the matter and enter proposed findings and conclusions, subject to review and enter of final judgment in the district court, essentially as a noncore matter that falls within the scope of section 157(c)(1).” In light of this ability, the court stated that it “need not at this juncture decide the issue of its authority to enter final judgment,” but, rather, would “decide its authority . . . when it prepares its findings and conclusions.”

Background: After insurer denied debtor coverage under its umbrella policy for certain consumer-customer driven causes of action based on alleged deceptive and fraudulent advertising schemes, the debtor sued the insurer for breach of contract and bad faith refusal to pay a claim. The insurer filed counter-claims and moved to withdraw the reference because the action involved only state law claims.Stern Impact: Court denied motion to withdraw the reference even though the action involved only state law claims because the bankruptcy court could handle all pretrial matters and had authority to enter proposed findings of fact and conclusions of law in the proceeding. Accordingly, even though the bankruptcy court would not be able to enter a final order upon the ultimate disposition of the case, withdrawal of the reference was inappropriate at that time.

Background: Litigation Trustee brought fraudulent conveyance and unjust enrichment claims against a number of defendants. With motions to dismiss pending, three of the defendants moved to withdraw the reference, which was granted for the limited purpose of addressing (i) whether the bankruptcy court could finally resolve the Trustee’s claims; and (ii) if the bankruptcy court could not finally resolve those claims, whether it could still issue proposed findings of fact and conclusions of law for the district court’s consideration.Stern Impact: Focusing on the public vs. private rights distinction, the court held that following Stern and Stern’s interpretation of Marathon and Granfinanciera, fraudulent conveyance actions involve “private rights” and thus are “quintessentially suits at common law” and require an Article III tribunal to enter a final judgment. Additionally, the court held the particular fraudulent conveyance actions at issue in the present case would have no effect on the bankruptcy case besides increasing the bankruptcy res to be distributed to creditors. Thus, the court concluded that bankruptcy courts lack the constitutional authority to issue final judgments on fraudulent conveyance actions. In reaching this decision, the court dismissed the argument that Stern should be read narrowly and was not intended to upset the division of labor between bankruptcy courts and Article III courts, noting that the “simple logic” of the Supreme Court’s reasoning in Stern, left no room for such an interpretation, notwithstanding the Court’s “cautionary dicta.”

The court went on to hold, however, that withdrawal of the reference was inappropriate because the bankruptcy court was in a better position to reach a conclusion regarding the issues presented and that, even after Stern, could still issue reports and recommendations on matters it could not issue a final judgment on.

Background: Landlord brought two adversary proceedings regarding the parties’ respective rights and obligations under a prepetition lease and license agreement pertaining to the debtor’s occupancy of a building. The debtor asserted that the bankruptcy court lacked subject matter jurisdiction over the claims asserted in the adversary proceedings.Stern Impact: The court held that it had subject matter jurisdiction and noted that Stern did not affect its jurisdictional analysis because the “holding in Stern did not concern the subject matter jurisdiction of the bankruptcy court, but rather, the allocation of the authority as between the district court and the bankruptcy court to enter final judgments.” Additionally, the court stated that Stern was not applicable to the non-core state-law claims in question because Stern “addressed the specific problem of a court’s authority . . . in proceedings denominated by statute as core, and had noting to do with non-core proceedings.” Furthermore, the court held that the debtor had consented because its confirmed plan of reorganization provided that the bankruptcy court would have jurisdiction “to determine any and all adversary proceedings . . . pending on the Effective Date. Because “nothing compelled [the debtor] to include [this] provision in the Plan,” by doing so the debtor consented to the bankruptcy court’s authority :” to hear and determine, and enter final judgments in connection with” the adversary proceedings even though they related to state law claims.